Five questions to ask before investing in a startup

This article was originally posted on April 10, 2013 in the Globe & Mail.

If there’s one industry that’s experiencing a heady rise in international hysteria, it’s startups. There’s no doubt they’re the new cool kid. Covered in every detail by the mainstream media machine, and the latest high-school crush for public markets investors.

But beyond the glitz, the limited joy startups have seen on the public markets has showcased concerns about whether many can make the shift from boys to men. Therefore, while due diligence before any roll-of-the-investment-dice is essential, there are a few common questions I like to have answered right from the beginning:

1. Where’s the money coming from?

Call me old-fashioned but as an investor, I’m there to make a profit. For me, the two clearest ways of seeing this potential are through understanding the startup’s revenue model and the possible exit scenarios.

If these two things are not clear after the first meeting with a startup, either they’ve not been prioritized or in the worst cases, they’ve not been considered at all. An active customer base that is consistently validating product growth, and paying for the product, is, for me, always a key factor in deciding whether to invest. This is followed closely by understanding any potential exit possibilities.

2. Who else is investing?

This effectively boils down to the believability of the story the startup is telling. If other industry leaders are in the investment, what did they find appealing? If they’re out, what turned them away?

While most investors will like to feel they’re able to spot a winner all by themselves, few would disregard completely the opinions of successful contemporaries.

3. Who are the local investors?

Startup communities tend to be centralized around a handful of major cities. In Canada, these are typically Vancouver, Calgary, Toronto, and Montreal. Although investor communities will certainly also co-exist in these areas, the age of geographical restriction is all but dead.

Investors travel and will almost certainly invest away from home if an opportunity presents itself. As much as startup communities are tightknit, investors are even more so. Ego plays a huge role in validating an investment, and as an outside investor, the social proof that is attached to the local investment community has huge sway in validating whether or not an investment is worthwhile. These are the investors that are most intimate with the startup, if they are in, it lets outside investors breath a little easier.

4. How do we monitor development and growth?

While public companies are subject to mandatory reporting procedures laid down by regulating bodies, for startups with private investors, there aren’t established processes for receiving updates and communications. For this reason, some investors take on board positions and get their development updates this way.

However, not every investor can be a board member and therefore a reporting system must be put in place which accomplishes two things; (1) Isn’t overly invasive. The last thing an investor wants to do is hive off time from development and growth, especially to get updates on development and growth! (2) Is accessible to an investor in their own time. Scheduling update calls, either as a group or individually, can be time consuming and distracting. When investors have the option to receive updates on their own time, the onus for communication can fall on them.

5. Can’t we all just get along?

At the time of writing this, the majority of businesses are still run by humans and for an investor, the ability to work harmoniously and constructively with a startup founder and their team is essential.

Startups are a difficult road to travel and, in what can be an exceptionally volatile and stressful arena; egos and expectations need to be checked regularly. When looking at any new opportunity, if I can’t see being able to weather these storms, which will inevitably arise along the way, with the team in place, I will always choose to walk away.

Cameron Chell is the co-founder and CEO ofPodium Ventures, a venture creation firm in Calgary that finances and builds high-tech startups.